Inflation is poised to drive up near-term credit card volumes as everyday items have become more expensive, but that doesn’t mean the card industry is celebrating.
Inflation climbed to 8.5% in March, and tamping it down is the central bank’s "most important task," Federal Reserve Governor Lael Brainard said Tuesday. The pandemic’s persistence globally, supply chain snags and Russia’s invasion of Ukraine make it difficult for the Fed to reduce inflation without prompting a recession and creating a period of uncertainty, Brainard said.
For the credit card business, near-term loan growth stands to benefit from the inflationary environment, according to an S&P Global Market Intelligence report released March 31.
"With inflation placing tremendous upward pressure on items of necessity like food and energy, credit card sales volumes are likely to rise in 2022 even if sentiment toward certain discretionary items continues to lag," the report said.
Inflation "is the rising tide that lifts all boats for the card business," said Tim Zawacki, a principal research analyst with S&P Global Market Intelligence.
S&P’s survey, which polled about 1,700 U.S. consumers, was fielded in mid-January. It indicated consumers are reluctant to boost spending on discretionary categories like travel and entertainment, and given how gas prices have soared, Zawacki expects negative consumer sentiment has only increased since the beginning of the year.
Still, whether it’s discretionary or day-to-day, card issuers expect higher spending ultimately leads to stronger loan growth, which issuers have "been waiting a very long time to see," Zawacki said.
The bulk of credit cards are issued by banks: JPMorgan Chase, American Express, Citicorp, Capital One and Bank of America were the biggest issuers of general purpose credit cards last year, according to industry research firm The Nilson Report. Consumer credit card spending fell significantly during the pandemic as debit card spending and savings rose in tandem with federal and state government stimulus payments aimed at offsetting the negative impact of the deadly virus.
The combination of higher gas prices, general inflation and a return to post-pandemic normalcy should create a tailwind. "It’s just a question of how stiff is the tailwind?" Zawacki said.
That doesn’t necessarily mean card issuers are celebrating, however.
If consumers can’t pay off card balances as quickly, then revolving debt could rise along with credit card volumes, said Scott Hoyt, senior director for Moody’s Analytics. Consumer budgets may become more stretched, particularly if wages don’t keep up, so then the risk of delinquencies and defaults on debt rises as well, Hoyt said.
In the short run, inflation will probably be positive because it increases volumes, and a deterioration in credit quality will take time, Hoyt said. "But how it nets out over 6, 12, 24 months, that’s much less clear," he said.
In March, the Fed approved its first interest rate hike since 2018, lifting it a quarter percentage point, per CNBC. The Fed is likely to raise the federal funds rate by half a point in May, CFO Dive reported.
Most credit card interest rates are variable rates, "so the rapid tightening that we’re anticipating from the Fed is also going to increase the burden of credit card debt on consumers," Hoyt said.
The New York Fed’s most recent Survey of Consumer Expectations, released Monday, revealed median year-ahead household spending growth expectations rose 1.3 percentage points to 7.7%. Meanwhile, more survey respondents said it’s harder to obtain credit now than it was one year ago and it will be harder to obtain credit in the year ahead.
The average perceived probability of missing a minimum debt payment in the next three months jumped 1.9 percentage points to 11.1%. More respondents said they were worse off financially than they were one year ago and more pessimistic about their household’s financial situation in the year ahead, per the New York Fed survey.
Zawacki said current consumer discipline and unemployment rates make it difficult for him to envision a meaningful acceleration in delinquency and charge-off rates past historical levels, which can vary widely among issuers.
During the pandemic, deposits have remained high at the banks, and that points to high payment rates on card balances, Zawacki said.
Although the delinquency rate is still a third lower than it was just prior to the pandemic, delinquencies on credit card payments were on the rise in December, January and February for large U.S. issuers’ credit card loans, per The Wall Street Journal.
With inflation, the cost of servicing debt is increasing, so "it’s not really realistic" to expect charge-off rates — just shy of 2% for credit cards — to remain steady, considering current economic factors, according to Brian Riley, director of the credit advisory service at Mercator Advisory Group.
The credit business typically looks to manage loss rates below 3%; during the Great Recession, loss rates were above 10%. "When that risk starts rising, it’s cause for concern from a lending perspective," Riley said.
Riley pointed to the latest Federal Reserve numbers, which show revolving debt at about pre-pandemic levels, having grown steadily over the past year.
Typical household budgets should have about 35% of income going into servicing debt, including mortgages or credit card debt, and when rising interest rates start nudging that percentage upward, that affects everything from paying credit card bills to buy now-pay later loans, Riley said.
Amid inflation and budget stress, card issuers may also increasingly try to strike a careful balance between lending less to reduce risk and continuing to fuel growing businesses, Riley said. "Issuers are going to have to think about, how do I want to handle this risk this time?"